Funds Banking on 'Wide-Moat' Stocks

Morningstar gave it a try in 2008, when it devised a metric called the “moat” to describe the distance a company puts between itself and its competition. A firm’s moat is a function of several variables, including its size, innovative technology, patent protection and the difficulty consumers have switching to a competitor – all relative to the other companies in the sector. Stocks with a wide moat have a significant competitive advantage over their peers.

Look at the context. “No-moat companies haven't built sustainable competitive advantages, so they are subject to the whims of the broader market,” writes Morningtar.com editor Jeremy Glaser. “Therefore when the outlook for the economy looked bright, so did the outlook for these firms pushing their stock prices higher.” Those companies with wider moats are more stable, and although they’re exposed to economic conditions, their cash flows see less fluctuation as conditions change, he says. Glaser says that stability held their shares back relative to their competitors because once conditions improved, investors chased higher growth. According to Morningstar analysts, wide-moat stocks (which are the stables of wide-moat funds) have been considerably undervalued. (The analysts estimated in August that wide-moat stocks were 14% undervalued compared with 7% for narrow-moat firms and 3% for no-moat companies.)

Source: SmaryMoney

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